EMV3311(APPLIED VALUATION)

Dr. N. B. Udoekanem
Department of Estate Management and Valuation
School of Architecture and the Built Environment
University of Rwanda
e-mail: namnsoudoekanem@futminna.edu.ng
Tel: +250739944246
 Introduction

 Commercial property is a real property

developed or acquired for the purpose of
commerce.
 Commerce entails trading in goods and
services.
 Commercial property investments constitute a
significant proportion of the portfolio of
investors worldwide.

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Classification of Commercial Property
Commercial property may be classified based on:
 the nature of commerce for which the property
is used
 the nature of interest subsisting in the property,
and
 the income – earning potential of the property.

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Classification based on the nature of commerce for which the
property is used

 Based on the nature of commerce for which the property is

used, a commercial property may be classified as an office, a

shop (retail property), a warehouse or a shopping complex.

 Offices are the accommodation provided for sale of services.

 Shops are commercial properties developed or acquired for the

purpose of sale of goods or articles of trade.

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Classification based on the nature of interest subsisting in the
property
 Interest is what is owned in a real property even though the
physical form provides the tangible evidence of such
ownership.
 There are two major interests which can subsist in a real
property. These are the freehold or absolute interest and
leasehold or derivative interests.
 On this basis, commercial property may be classified as
freehold commercial property or leasehold commercial
property.
 While the ownership right in the freehold commercial property
is of a perpetual nature, the ownership right in the leasehold
commercial property is of a terminal nature.

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Classification based on the income – earning potential of the property
 Commercial property owned strictly for investment is that which is
expected to produce benefits in the form of direct monetary return and is
said to have income - earning potential or rent or income - earning
capacity.
 Thus, any commercial property that generates rental income through
letting is a commercial property investment.
 Commercial property owned strictly for occupation does not generate
rental income, although there may be an investment service performed by
such property.
 Such owner - occupied commercial properties are classified as
commercial non – investment properties. Typical examples of
commercial non – investment properties include public commercial
properties such as government’s purpose-built office properties, purpose-
built offices of firms and private organisations such as Non-
Governmental Organisations (NGOs), Community-Based Organisations
(CBOs) and Faith-Based Organisations (FBOs) among others.
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 Context and Methodologies of Commercial Property
Valuation

The Nature of Commercial Property Valuation

 Valuation is the estimation of the worth of an
interest in property for a specific purpose at a
given period of time.
 There are two basic forms of Commercial
Property Valuation. These are:
(a) Rental Valuation
(b) Capital Valuation

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Rental Valuation
 Rental valuation is the determination of the
rental value of a property.
 Rental value or rent of a commercial property is
the amount that a prospective tenant is able and
willing to pay to occupy it.
 It is also the value of a real property on annual
basis.
 Rent may be viewed from the perspectives of
the landlord and the tenant. To the landlord,
rent is an income, but to the tenant, it is the cost
of occupation of the property.
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The full rental value of a commercial property can
be determined through any of the following
methods:
 By comparison with rent of similar properties
 By considering rent as a proportion of turnover
of the business for which the property is
occupied
 By relating rent to the cost of the property
 By reference to the rent presently being paid

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By comparison with rent of similar properties
 The current rental value of a commercial
property can be determined by comparing the
rent paid to occupy similar commercial
properties in the locality where the subject
property is located.
 This is usually done by obtaining rental data on
commercial properties recently let in the
locality and then determining the expected
rental value of the subject property.

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Example 1
Determine the rental value of MEGA plaza, an office
property located in the central business district of Kigali.
The rental values of 40 similar office properties in the
locality recently let to tenants are presented in the Table
below: Rent / (RWF) Frequency
7200
7200 2
2
7500
7500 6
6
8000 5
8000 5
8500 6
8500 6
9500 10
9500
10000 10
9
10000
10500 9
2
Total
10500 40
2
Total 40
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•Solution
 
+ +……………+
Where E(X) = Expected rental value of the
property
= Probabilities
= Rental values of comparable properties in the
distribution
The calculation is presented in a Table as follows:

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 Rent / (RWF) Frequency Probability Expected Rent / (RWF)
7200 2 0.05 360
7200
7500 2
6 0.05
0.15 360
1125
8000
7500 5
6 0.125
0.15 1000
1125
8500
8000 6
5 0.15
0.125 1275
1000
9500
8500 10
6 0.25
0.15 2375
1275
10000
9500 9
10 0.225
0.25 2250
2375
10500 2 0.05 525
10000 9 0.225 2250
∑ 40 1.000 8910
10500 2 0.05 525
∑ 40 1.000 8910

Rental value of MEGA Plaza

= RWF 360 + 1125 + 1000 + 1275 + 2375 + 2250 + 525
= RWF 8910 p.a
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•Example
 
A shop property in Gikondo with a frontage of 7m and a
depth of 15m is vacant and available for letting. What is
the rental value of the property if a near-by shop
property with a frontage of 6m and a depth of 15m was
recently let for RWF 450,000 p.a?
Solution
Analysis of recent letting
6m X 15m @RWF 450,000
= 90@ RWF 450,000
=RWF 5000 p.a

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•Rental
  Valuation of shop property at Gikondo
7m X 15m@ RWF 5000
= 105 X RWF 5000
= RWF 525,000 p.a
Example 2
No. 18 Mumuji street is a ground floor shop
property with frontage of 6m and a depth of 18m
was recently let at its full rental value of RWF
460,000 p.a. Determine the rental value of No.19
Mumuji street, a similar property with a frontage
of 5m and a depth of 20m.
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•Solution
 
Analysis of recent letting (No. 18 Mumuji street )

Rental Valuation of No. 19 Mumuji street

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By considering rent as a proportion of turnover of
the business for which the property is occupied
 Because tenants view rent as the cost of
occupation of a property, the rental value of such
property can be determined as a proportion of the
turnover or profit made or expected to be made
from the business for which the property is
occupied.
 Since turnover or profit differs from business to
business, turnover rent will also differ according
to the nature of business which the tenant
undertakes.
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Example 3
A shop property in Nyamirambo is available for letting. A
tenant who presently occupies an adjacent shop is willing
to expand his business. He estimates that if he occupies
the vacant shop, he will make a profit of RWF 1.75m per
annum. Also, he is prepared to pay 25% of his profit in
rent. How rent does the property command as a
proportion of his profit?
Solution
Estimated Profit RWF 1,750,000
Proportion of turnover taken as rent 0.25
Estimated rental value RWF 437,500 p.a

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 In practice, rent payable by the tenant may not be determined
entirely from the turnover or profit of the business carried out
in the property.
 Often times, a proportion of the market rent is taken as the
base rent and a proportion of the turnover (known as turnover
rent) is added to it to obtain the effective rent of the property.
Example 4
A shop property in Nyabugogo is vacant and available for letting.
The market rent for a similar shop in the locality is RWF 350,000
p.a. It is estimated that RWF 1.3m will be earned as profit from
the business that a prospective tenant could do in the shop. The
tenant is willing to pay 15% of his profit as part of the rent while
the base rent is agreed at 80% of the market rent. What is the
effective rent for the shop?

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•Solution
 

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By relating rent to the cost of the property
 This method of determining rental value is
appropriate when there is no rental evidence for
similar or comparable commercial properties in
the locality where the subject property is located.
 The basis for this method is that the full rental
value of a property comprises return on the value
of land plus the return on the capital outlay of
the building. This is the same as the sum of the
annual values of the site and improvements
thereon.

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•Example
  5
Mr. Kutanga recently purchased a building land in Nyarugenge for RWF
2.5m. He has built a commercial warehouse on the land. The depreciated
replacement cost of the building is RWF 4.6m. If the return on the land
and building are 10% and 12% respectively. What is the full rental value
of the property?
Solution

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By reference to the rent presently being paid
 The rack rental value of a commercial property
can be determined by reference to the rent
presently being paid by the tenant, particularly
when such rent is below the rack rental value.
 In using this method, due consideration must be
given to the terms of the lease such as the
duration of the lease, rent review frequency,
repairing obligations and lease incentives such
as rent free periods and premiums.

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•Example
  6
The rent currently being paid to occupy an office property in
Nyarugenge is RWF 9000/per annum. This rent was fixed 3 years ago
and is due for review now. The annual rental growth rate for
comparable office properties in the locality is 8%. What is the full
rental value of the property?
Solution

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Capital Valuation
 Capital valuation is the estimation of the exchange
price of an interest in real property.
 Also, it is the determination of the future financial
benefits derived from the ownership of a property
expressed in terms of their present value.
The basic methods of property valuation are:
 Direct comparison method
 Investment method
 Cost method
 Residual method
 Profits method
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Direct comparison method
 This method of valuation is based on the principle of
demand and supply.
 It involves the comparison of the subject property with
similar properties for which transactions have already
taken place for the purpose of obtaining market data
to determine the value of the subject property.
 The method also entails analysis of market
transactions to obtain data for use directly or
indirectly in the application of other methods of
valuation. Such data include all risks yield (initial yield),
rent review frequency, rental growth rate, rent free
period and replacement cost rate.
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 The Direct comparison method relies strongly
on market data and uses statistical techniques
for analysis of the data to arrive at the market
value of the subject property.
 The unit of comparison for offices, shops,
commercial warehouses and land for
commercial property development is per
square metre.
 The method is not suitable for commercial
property valuation when market data is either
inadequate or non-existent.
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Investment method
 This method of valuation is also known as the
income approach.
 It is suitable for valuation of properties with
income-earning potential.
 The method is based on the principle that the
value of a property to an investor depends on
the benefits which he expects to derive from
the property over a given period of time.
 There is a relationship between the net income
generated by a property and its capital value.
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• In
  practice, the capital value of a commercial property is
determined by discounting the future income flows to their
present values.
 The summation of the present or discounted values is the
market value of the property.
 The basic property investment valuation model is:

 The net income is obtained by deducting all outgoings from the

gross income of the property.
 Outgoings are expenses necessary to keep a property in a state
to command the rent. These expenses include repairs,
insurance, rates and rent payable to a superior landlord, etc.
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 The years’ purchase is the multiplier or
capitalisation factor required to convert the net
income of the property to its capital value.
 It is also the present value of RWF1 per annum.
Forms of the investment method of valuation
There two forms of the investment method of
valuation. These are:
 The traditional income capitalisation approach
or the all risks yield (ARY) approach
 Growth - explicit discounted cash flow(DCF)
technique
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The traditional income capitalisation approach
 This approach to property investment valuation
uses growth-implicit yield or all risks yield to
capitalise the net income generated by the
property.
 The rental growth prospect of the income flows
is implied in the yield.
 The major interests usually valued in
commercial investment properties are rack-
rented freehold, reversionary freehold and
leasehold interests.
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Valuation of rack-rented freeholds
 Rack-rented freeholds are fully let freehold
properties. That is, freehold properties that are
let at their full rental values or market rent.
Example 7
Value the freehold interest in an office property
located in the CBD of Kigali just let at its net rental
value of RWF 1.65m per annum. Similar properties
in the locality recently sold indicate an initial yield
of 8%.

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Solution
Net Rental Value RWF 1,650,000
YP Perp@8% 12.5
Valuation RWF 20,625,000

Valuation of reversionary freeholds

Reversionary freeholds are freehold properties
with reversionary interest. The valuation is done
on term and reversion basis or hardcore and top
slice basis.

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Example 8
What is the capital value of a freehold shop
property let on a lease with 12 years unexpired at
RWF 380,000 p.a. The full rental value of the
property is RWF 465,000 p.a. Initial yield for
comparable shop properties in the locality is 7%.
Solution
Term and Reversion
Term Rent RWF 380,000
YP 12 yrs @7% 7.942686 RWF 3,018,220.68

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Reversion to FRV RWF 465,000
YP Perp @7% 14.285714
PV 12 yrs @7% 0.444012 RWF 2,949,508.23
ValuationRWF 5, 967, 728.91
Say RWF 5, 967, 720
The valuation can also be done on hardcore and top slice basis as
follows:
Core Rent RWF 380,000
YP Perp @7% 14.285714 RWF 5,428,571.32
Top Slice RWF 85,000
YP Perp @7% 14.285714
PV 12 yrs @7%0.444012RWF 539,157.42
ValuationRWF 5, 967, 728.74
Say RWF 5, 967, 720

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Valuation of leaseholds
 Leaseholds are properties with derivative or
determinate interest. They have terminable
income streams because the interest can last
only for a term of years.
 The income generated by a leasehold property is
called profit rent.
 Profit rent is the difference between rent
received and rent paid.
 A leasehold interest with zero profit rent has no
value.
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Example 9
Value the leasehold interest in the previous
example. Sinking fund rate is 3%.
Solution
Rent Received RWF 465,000
Rent Paid RWF 380,000
Profit Rent RWF 85,000
YP for 12yrs@8% &3% 6.646193
Valuation RWF 564,926.41
Say RWF 564,920
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Growth - explicit DCF Technique
 As the name implies, this property investment
valuation technique is explicit regarding rental
growth prospect of the commercial investment
property.
 It enables the comparison of property investment
with other alternative investments in the
investment market by using a target rate of return
(also known as equated yield) in the valuation.
 The inputs of growth-explicit DCF technique are
initial yield (k), implied annual rental growth rate
(g), rent review frequency (t), and equated yield (e).
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 Equated yield is the rate of return that must be
paid to an investor sufficient to compensate the
investor for the use of his capital.
 In practice, equated yield is derived from
redemption yield of government bond with a
percentage addition to reflect the nature of risks
of the property investment.
 Equated yield (e) = Risk-free rate of return + Risk
premium
 In the Republic of Rwanda, the average
redemption yield of government bond is 10.7%.
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• If  a risk premium of 2% is added to the risk-free
rate of return to compensate for market and
property-specific risks, equated yield for rack-
rented freehold property investments in the
country is as follows:

The 2% added to the risk-free rate is generally

acceptable as the premium for the extra risks in
property investment since property is significantly
less liquid than conventional bonds.
Dr. N. B. Udoekanem Applied Valuation
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•Valuation
  of rack-rented freeholds
Example 10
Value the freehold interest in an office property in
Nyarugenge to be let on a 20 year lease with 5 year rent
reviews at its current net rental value of RWF 1.72m. Equated
yield for the property investment is 12.7% and market
capitalisation rate (initial yield) for similar properties is 6%.
Solution
Implied rental growth analysis

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•  

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•  

-1
-1
-1

Valuation of the freehold property (all risks yield approach)

Net Rental Value RWF 1,720,000
YP Perp@6% 16.666667
Valuation RWF 28,666,667.24
Say RWF 28,666,660

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Valuation of the freehold property
(Explicit DCF technique)

Years Rent (RWF) Growth Projected YP 5yrs @ PV@ Present

@ Rent (RWF) 12.7% 12.7% Value (RWF)
7.4396%
1-5 1, 720, 000 1.0000 1,720,000 3.543130 1.000000 6,094,184
6 - 10 1, 720, 000 1.4316 2,462,352 3.543130 0.550022 4,798,630
11 -15 1, 720, 000 2.0495 3,525,140 3.543130 0.302525 3,778,546
16 - 20 1, 720, 000 2.9340 5,046,480 3.543130 0.166395 2,975,198
21 -25 1, 720, 000 4.2004 7,224,688 3.543130 0.091521 2,342,755
25 1, 720, 000 6.0133 10,342,876 16.666667 0.050339 8,677,500
Valuation 28,666,813

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for BSc EMV, University of Rwanda
Valuation
•   of reversionary freeholds
Example 11
Value the freehold interest in a shop property in
Nyabugogo which is let on a lease with 3 years unexpired
at RWF 350,000 p.a. The full rental value of the property
is RWF 470,000 p.a based of 5-year rent reviews. Initial
yield for comparable shop properties is 5% and equated
yield for the property investment is 12.7%.
Solution

Dr. N. B. Udoekanem Applied Valuation

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•  

-1
-1
-1

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Valuation of the reversionary freehold property
Term Rent RWF 350,000
YP 3 yrs@12.7% 2.373233 RWF 830,631.55
Reversion to FRV RWF470,000
A RWF1 3yrs@8.389% 1.273373
YP Perp@5% 20
PV 3 yrs@12.7% 0.6986 RWF 8,362,036.75
Valuation RWF 9,192,668.3
Say RWF 9,192,660

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 Valuation of the reversionary freehold property
(Explicit DCF technique)

Years Rent (RWF) Growth@ Projected YP @ PV@ Present

8.389% Rent 12.7% 12.7% Value
(RWF) (RWF)
1-3 350,000 1.0000 350,000 2.373233 1.000000 830,632
4-8 470,000 1.2734 598,498 3.543130 0.698599 1,481,418
8 470,000 1.9049 895,303 20.000000 0.384245 6,880,314
Valuation 9,192,364

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Valuation of leaseholds
Example 12
Value a shop property in Gikondo let on a lease with 15 years
unexpired at a fixed rent of RWF 280,000 p.a. The property has just
been sublet at its estimated rental value of RWF 375,000 p.a. on 5 -
year rent reviews. Initial yield for similar properties is 5%. Equated
yield for the property investment is 14.7%.
Solution
Year Rent Growth Projected Less Net YP @ PV@ Present
Received @ Rent Rent Rent 14.7% 14.7% Value
(RWF) 8.389% Raid (RWF)
1-5 375,000 1.0000 375,000 280,000 95,000 3.376104 1.000000 320,730
6-10 375,000 1.4960 561,000 280,000 281,000 3.376104 0.503713 477,865
11-15 375,000 2.2380 839,250 280,000 559,250 3.376104 0.253726 479,057
Valuation 1,277,652

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Cost Method
 The cost method of valuation is based on the
principle of substitution which states that value
will tend to be set by the cost of acquiring a
similarly desirable substitute. It assumes that
cost and value are related.
 The method is appropriate for the valuation of
properties that are rarely sold or have little or
no general market demand.
 The cost method is a method of last resort and
should be used only when there is no market
data for the use of direct comparison and
investment methods.
Dr. N. B. Udoekanem Applied Valuation
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 The cost method should not be used for the
valuation of commercial investment properties
(i.e. commercial properties with income earning
potential) except such valuation is for insurance
purpose.
 The method is suitable for the valuation of
purpose-built schools, libraries, hospitals,
museums, churches, mosques, community or
town halls, police stations and other properties
for which there is no market and are rarely
traded.

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The basic inputs of the cost method are:
 Replacement cost of the building
 Depreciation (to allow for age and obsolescence)
 Value of land (i.e. value of the site)
The replacement cost of the building is usually
determined by any or combination of the following
methods:
 Bill of quantities method
 Subcontractors method
 Unit-in-situ cost method
 Comparative market method
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 After the replacement cost of the building is
determined, the accrued depreciation should be
properly computed and deducted from it to
obtain the depreciated replacement cost (DRC).
 The depreciated replacement cost is the current
cost of replacing an asset with its modern
equivalent asset less deductions for physical
deterioration and all relevant forms of
obsolescence and optimisation (RICS, 2017).
 Thereafter, the value of land is added to the
depreciated replacement cost of the building to
obtain the capital value of the property.
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Insurance Valuation of Commercial Property
 In the valuation of commercial property for insurance
purpose, the value of land is not added to the
replacement cost of the building.
 This is because land is indestructible and cannot be
destroyed whenever a foreseeable risk insured against
occurs.
 The essence of insurance is to preserve the property in
its physical state. Therefore, insurable value of a
commercial property is not its economic value and as
such allowance for depreciation in insurance valuation
should be made only for physical deterioration.

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• Valuation
  must be carried out before a commercial
property is insured to avoid underinsurance.
 Underinsurance occurs when the sum insured is less
than the value of the property at risk.
 The average clause is usually provided in fire insurance
policies of commercial properties to determine the
insurer’s liability whenever a foreseeable risk
underinsured against occurs.
 The model for determining insurer’s liability under the
condition of average is :

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•  
Example 13
The value of an office property in the CBD of Kigali owned by
Bank of Kigali Ltd at the time of a fire outbreak is RWF 34.2m.
The property was insured for RWF 22.8m by Muhabura
Insurance PLC .The fire insurance policy for the property
incorporated the average clause. The actual loss sustained as
agreed between the insured and the insurer is RWF 18.6m.
Determine the amount payable to Bank of Kigali Ltd by
Muhabura Insurance PLC in full and final settlement of the claim
after the application of average.
Solution

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•  

Basis of Insurance Valuation of Commercial

Property
There are two bases of insurance valuation of
commercial property. These are:
 Indemnity basis
 Reinstatement with new basis

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•  
Insurance Valuation of Commercial Property on the Basis of
Indemnity
The steps to be followed in determining the indemnity value of
a commercial property are:
 Determine the gross internal floor area of the property
(GIFA)
 Determine the building cost based on the cost/ of the GIFA
 Add the professional fees and debris removal cost to the
total building cost to obtain the replacement cost of the
property
 Deduct depreciation (physical depreciation only) from the
replacement cost to obtain the indemnity value.
Indemnity value is required where the basis of the commercial
property’s insurance policy is indemnity.
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•Example
  14
A shopping mall in the CBD of Kigali has gross internal floor
area of 1250. The cost of building similar properties in the
locality is RWF 9500/.The debris removal cost is RWF 580,000
and professional fees of project consultants is 12% of the
building cost. The shopping mall was built 9 years ago and has
an estimated useful life of 60 years. Determine the indemnity
value of the property.
Solution
Gross internal floor area 1,250
Building cost @RWF 9500/RWF 11,875,000
Add professional fees@12% 1,425,000
Add debris removal cost 580,000
Replacement cost of the property RWF 13, 880,000
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•Depreciation
  Factor 0.85
Indemnity Value RWF 11,798,000

The depreciation factor is calculated as follows:

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Insurance Valuation of Commercial Property on the
Basis of Reinstatement with New
 The reinstatement value is the replacement
cost (new) of the property, including inflation
provision to take care of changes in building
cost during the period of rebuilding without any
allowance for depreciation.
 Reinstatement value is required where the basis
of the commercial property’s insurance policy is
reinstatement with new.

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•Example
  15
An office property in Nyarugenge has a gross internal
floor area of 1840.The cost of building similar office
properties in the locality is RWF 25000/. The
estimated debris removal cost is RWF 2.35m and
professional fees of project consultants is 12% of the
building cost. The building was constructed 12 years
ago and has an estimated useful life of 60 years.
Inflation rate in the economy is 8%. It is estimated
that in the event of occurrence of the insured peril, it
will take 9 months to rebuild the property. What is
the reinstatement value of the property?
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•Solution
 
Gross internal floor area 1,840
Building cost @RWF 25,000/ RWF 46,000,000
Add professional fees@12% 5,520,000
Add debris removal cost RWF 2,350,000
Replacement cost of the property RWF 53, 870,000
Inflation@8% for 9 months of the
period of rebuilding 1.059419
Reinstatement Value RWF 57,070,900

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Residual Method
 The residual method of valuation is based on the
principle that within any given socio-political and
economic environment, there is for every parcel of land,
highest and best use and that the highest possible
potential value of that site can only be realised by
developing the site to its highest and best use.
 It is required when there is an element of latent value
which can be released by the expenditure of money on a
property.
 The method can be used for the valuation of commercial
property with development or redevelopment potential.

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•The
  residual valuation model is:

Residual Value
Residual value is the value of the property in its
present condition. It is the value of the site and
building, where the building is to be improved or
demolished.

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Gross Development Value
 Gross development value is the capital value of the
developed or improved site.
 Where the development would be let on completion, the
GDV is determined by capitalizing the estimated net rental
value of the property using the yield of comparable rack-
rented property investments.
 Where the development would be sold on completion, the
GDV is the estimated sale price of the property.
Total Development Cost
This is the total cost incurred in the development or
improvement of the property. It comprises the actual building
cost, professional fees of project consultants, contingencies,
development finance cost, letting fees and developer’s profit.
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•  
Example 16
Value a vacant site within the built-up commercial area
of Nyarugenge in the city of Kigali for which there is no
market evidence of recent sales of comparable sites.
Planning permission may be given by the development
board only for office development covering a gross area
of 3,085, providing a net office space of 2,685. Current
construction cost of similar office blocks including site
preparation and clearance are expected to average RWF
25000/. When completed 3 years hence, the
development will be readily let at RWF 19500/ per
annum net. The yield of similar rack-rented office
properties is .
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Other information on the development are:
(i) Architects, Engineers, Quantity Surveyors and
Valuers’ fees are at 12% on building cost.
(ii) Development contingencies are 5% on building
cost.
(iii) Development finance cost is at 18% on half of the
total building cost for the period of development.
(iv) Letting fee is at 10% on rent
(v) The developer has expressed satisfaction on profit
of 15% on gross development value.
(vi) Legal and acquisition costs on site purchase is at
4% of the value of site.
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•Solution
 
Net Income RWF 52,357,500
(2685of office space @RWF19500/)
YP Perp@ 15.384615
Gross Development Value RWF 805,499,980
Less: Total Development Cost
(a) Office block
(3085@RWF 25000/) RWF 77,125,000
Add Prof. fees@12% RWF 9,255,000
Building Cost RWF 86,380,000
(b) Contingencies@5%
of building cost RWF 4,319,000
Total Building Cost RWF 90,699,000
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•  Finance cost @18% for 3yrs
(c)
on half of total building cost
29,161,180
Building and Finance Costs RWF 119,860,180
(d) Letting fees@10% of rent RWF 5,235,750
Development Cost RWF 125,095,930
(e) Developer’s profit
@15% of GDV RWF 120,824,997
Total Development Cost RWF 245,920,927
Residual Value in 3 years’ time RWF 559,579,053
PV RWF 1 in 3yrs@18% 0.608631
Value of site +Acquisition cost RWF 340,577,159
Let x be the value of site
Acquisition cost = 4% of x = 0.04x
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•x +  0.04x = RWF 340,577,159
X(1+0.04) = RWF 340,577,159
1.04x = RWF 340,577,159

Value of site = RWF 327,478,037.5

Say RWF 327,478,000

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 Valuation of Non-Standard Lease Structures
A lease is an interest in property for a term of years. A major
attribute of a lease is exclusive possession of the property for a
definite period.
Lease with rent-free periods
 Rent-free period is an incentive given by the landlord to the
tenant in form of short-term cash bonus at the expense of
increased rent later.
 It is usually necessary to determine effective rent of a lease
with rent-free period.
Example 17
A five year lease of a shop property in Nyamirambo has been
agreed at a headline rent of RWF 300,000 per annum with one
year rent – free period. The yield of the investment is 7%.
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•  
Solution
Headline Rent RWF 300,000
YP 4yrs@7% 3.387211
PV 1yr @7% 0.934579
Capital value of headline rent RWF 949,684.88
4.100197
Effective RentRWF 231,619.33
Say RWF 231,619
Growth rate for 5-year write-off

=
-1
-1

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Lease with rent-free and fitting-out periods
Example 18
A 10 year lease of an office property in Gikondo
has been agreed at a headline rent of RWF
420,000 per annum with 1.5 years rent-free
period (including 6 months for fitting out) and a
rent review after 5years. The yield of the
investment is 7%. The fitting out period begins at
the start of the lease. What is the effective rent?

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•Solution
 
Headline Rent RWF 420,000
YP 8.5yrs@7% 6.247865
PV 1.5yrs @7% 0.903492
Capital value of headline rent RWF 2,370,856.34
6.773706
X PV 0.5yrs@7% 0.966736
YP 9.5yrs, deferred 0.5 yrs 6.548385
Effective Rent RWF 362,052.07
Say RWF 362,052

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Lease with capital contribution by the landlord
 Sometimes, the landlord may make a contribution in the
form of financial payment to induce the tenant to occupy the
property.
 In such situation, the effective rent is calculated by
determining the amount of contribution and the length of
the amortisation period. The length of the amortisation
period may be to the end of the lease or to a rent review.
Example 19
A landlord of a shop property in Nyamirambo offers a tenant
RWF 180,000 to induce occupation of the property under a new
10-year lease with 5-year rent reviews at a rent of RWF 450,000
per annum. The yield of the investment is 8%. Determine the
effective rent of the property.
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•  
Solution
Headline Rent RWF 450,000
Capital contribution -RWF 180,000
YP 10 yrs @8% 6.710081
Annual equivalent of capital
contribution - RWF 26,825
Effective Rent RWF 423,175

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Lease with Premium paid by the tenant
 A premium is a lump sum of money paid by the tenant
to the landlord in consideration for a reduction in rent
or in anticipation of other benefits under a lease.
 Such benefits may include the landlord taking
responsibility for repairs or insurance, a percentage-
based rent at review or less frequent rent reviews.
 Both the landlord and the tenant usually benefit from
payment of premiums in leases.
 When premium is paid in a lease, the landlord receives
a capital sum that may even be invested elsewhere
while the tenant gets an immediate profit rent.

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•Example
  20
A shop property in Nyabugogo is leased for 5 years. The
tenant has agreed to pay a rent of RWF 250,000 per
annum plus a premium of RWF 750,000. The yield of the
investment is 12%. What is the effective rent for the
property?
Solution
Contract Rent RWF 250,000
Premium RWF 750,000
YP 5 yrs @12% 3.604776
Annual equivalent of premium RWF 208,057
Effective Rent RWF 458,057
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Premium on Assignment
A premium may be paid by an assignee if the market rent is greater than
the contract rent. In this case, the premium to be paid by the assignee is
the capital value of the profit rent.
Example 21
A shop property in Nyamirambo is let on a lease with 3 years unexpired
at a rent of RWF 250,000 per annum. The current market rent is
estimated to be RWF 380,000 per annum. The investor’s target rate of
return is 12%. If the tenant assigns the lease, What premium should the
assignee pay?
Solution
Rent Received RWF 380,000
Rent Paid RWF 250,000
Profit Rent RWF 130,000
YP 3 yrs @12%2.401831
Premium RWF 312,238
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Lease with Reverse Premium
 A reverse premium may arise in a depressed property
market where properties are over-rented.
 It is a lump sum of money paid by an assignor of a lease
to the assignee to induce the assignee to take
occupation of the property.
 A reverse premium to be paid by the assignor to the
assignee is usually equivalent to the capital value of the
overage rent.
 Overage rent is the difference between the rent passing
and the current market rent of a property, where the
rent passing is greater than the current market rent.

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Example 22
An office property in the CBD of Kigali was let 3 years ago for
RWF 480,000 per annum on a 10 year lease with 5-year rent
reviews. The tenant intends to assign the lease. The current
market rent for the property is RWF 400,000 per annum.
Determine the amount of reverse premium the assignor
should pay the assignee. The investor’s target rate of return is
12%.
Solution
Market Rent (RWF) 400,000
Contract Rent(RWF) 480,000
Overage (RWF) - 80,000
YP 7 yrs @12% 4.563757
Reverse Premium (RWF) -365,100
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Determining the market rent of commercial
property on which a reverse premium has been
paid
 A commercial property on which a reverse
premium has been paid may be used as
comparable evidence. In such situation, the
market rent of the property must be determined.
 The market rent of the property is obtained by
calculating the annual equivalent of the reverse
premium and then deducting it from the contract
rent.
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Example 23
A shopping mall in Nyabugogo was let 3 years ago for RWF
450,000 per annum on a 12-year lease. The tenant just
assigned the lease and paid a reverse premium of RWF
340,000 to the assignee. The lease is based on upward-only
rent review and the target rate of return is 12%. What is the
current market rent for the property?
Solution
Contract Rent (RWF) 450,000
Reverse Premium (RWF) -340,000
÷ YP 9 yrs @12% 5.328250
Annual equivalent of reverse premium (RWF) -63,810
Market Rent (RWF) 386,190
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 Valuation of New Lease Forms
A tenant or occupier of a property let on a formal lease may wish
to renew or extend his lease. This is usually done by surrendering
the present lease for a new lease. When this occurs, valuation for
the surrender and renewal of the lease is required.
Surrender and renewal of leases
 Tenants of commercial properties in prime locations often want
to remain in occupation of the properties by extending the
duration of the lease.
 In this scenario, valuation is required to ensure that neither the
landlord nor the tenant endangers their existing financial
positions by determining the capital value of each party’s
present and proposed interests in order to calculate the rent
that should be fixed under the proposed lease.

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Example 24
A tenant of a shopping mall in Nyamirambo
wishes to surrender the remainder of an
existing lease for the grant of a longer one. The
present lease has 4 years to run with no
review. The rent passing is RWF 375,000 per
annum. The current market rent is RWF
520,000 per annum. The yield of the
investment is 12%. The landlord is willing to
accept the surrender and grant a new 20-year
lease with 5-year rent reviews.

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Solution
Valuation of the landlord’s present interest
Term Rent RWF 375,000
YP 4yrs @11% 3.102446 RWF 1,163,417
Reversion to Market Rent RWF 520,000
YP Perp @12% 8.333333
PV 4 yrs @12% 0.635518 RWF 2,753,911
Valuation RWF 3,917,328

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•Valuation
  of the landlord’s proposed interest
Let new rent be (RWF) x
YP 5yrs @11% 3.695897 3.695897x
Reversion to Market Rent RWF 520,000
YP Perp @12% 8.333333
PV 5 yrs @12% 0.567427 2,458,850
Valuation 2,458,850 + 3.695897x
If the landlord must be in the same financial position under the
proposed terms as under the present terms, then:
2,458,850 + 3.695897x = 3,917,328
3.695897x = 3,917,328 - 2,458,850
3.695897x = 1,458,478

New Rent = RWF 394,620

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Valuation of the tenant’s present interest
An additional 2% is added to the freehold all risks
yield of 12% to obtain leasehold yield of 14%. This
adjustment is necessary to reflect the additional
risk of a short leasehold property investment.
Solution
Market Rent RWF 520,000
Less Contract Rent RWF 375,000
Profit Rent RWF 145,000
YP 4 yrs @14% 2.913712
Valuation RWF 422,488
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Valuation of the tenant’s proposed interest
Solution
Market Rent (RWF) 520,000
Less New Rent (RWF) x
Profit Rent (RWF) 520,000 - x
YP 5 yrs @14% 3.433081
Valuation (RWF) 1,785,202 – 3.433081x
If the value of the tenant’s present interest must equal the
value of the proposed interest, then:
1,785,202 – 3.433081x = 422,488
3.433081x = 1,785,202 – 422,488
3.433081x = 1,362,714

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•  
New Rent = RWF 396,936
In practice, a single figure is usually negotiated and
agreed by both parties. Such figure may be the
average of the two rental values. In this case, the
average of the two rental values that may be agreed
by both parties as the new rent is:

= RWF 395,778

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 Valuation of Contaminated Land
 A valuer may be required to determine the value of a
contaminated land or site.
 Most contaminated sites have no comparable evidence
due to differences in location-specific contaminants.
For this reason, the valuation of contaminated land is
usually carried out using the cost to correct approach.
 Thus, where a property is impaired or contaminated,
the value of the site is equal to the value of the
property in good condition (unimpaired) less the cost
of remediation and deduction for stigma.
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 The cost of remediation is usually ascertained
from a quantification of relevant factors identified
in an environmental impact assessment (EIA)
report or land quality statement (LQS).
 Stigma is the value impact of potential risk and
uncertainty associated with the use of a
contaminated site in the future, even though the
clean-up of the contamination must have been
done.
 In practice, valuers usually adjust the yield to
account for stigma in the valuation.

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Example 25
Determine the value of a freehold factory located on
contaminated land in Nyabugogo. The current freeholder has
legal responsibility for the contamination. The rent passing is
RWF 750,000 per annum and the 20-year lease has 5 years to
run. The current tenant does not intend to renew the lease and
remediation of the land is very necessary. As obtained from
the EIA and LQS, the cost of remediation is RWF 3.6m and a
period of 1 year is required to complete the remediation work.
The current market rent is RWF 950,000 per annum and the all
risks yield for uncontaminated comparable freehold industrial
property in the locality is 8%. The cost of fund for the clean-up
of the site is 15% while the cost of EIA and LQS are RWF
150,000 and RWF 120,000 respectively.
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Solution
Term Rent RWF 750,000
YP 5yrs@8% 3.992710 RWF 2,994,533
Reversion to market rent RWF 950,000
YP Perp @9% 11.111111
PV 6yrs@9% 0.596267 RWF 6,293,929
RWF 9,288,462
Less cost of remediation(RWF):
Clean-up costs -3,600,000
Finance cost@15%
for 6 months -260,570
Cost of EIA - 150,000
Cost of LQS - 120,000
Total - 4,130,570
PV 5yrs @15% 0.497177 -2,053,624
Valuation RWF 7, 234, 838
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 VALUATION ACCURACY
Introduction
 Valuation accuracy is the ability of a valuation
to accurately identify the exchange price in
the market place.
 Every valuation is an estimate of the exchange
price of the property.
 Valuation accuracy is concerned with the
closeness of valuation to actual price.

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Measuring Valuation Accuracy
• Valuation accuracy for a single property is
measured by percentage error.
• The ideal percentage error for a single property is 0
and the ideal ratio of actual price to valuation is 1.
• In actual practice, valuation accuracy is usually
measured for each property in a sample of
properties taken from the property market and
then aggregated for all the properties. When this
has been done, valuation accuracy for all the
properties in the sample is measured by the
median percentage error (MPE).

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• According
  to the Australian Property Institute
(API, 2012), valuation is accurate if it is within
the range of MPE of ± 15%.
 For an individual property, if actual price is
greater than valuation, the percentage error =

 Also, if valuation is greater than actual price, the

percentage error =

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• The
  median percentage error is calculated
using the model:
C
Where MPE= median percentage error
L = Lower class boundary of the median class
N= Total frequency of the distribution
fl= Sum of frequencies of all classes below the
median class
fm = frequency of the median class
C = class interval
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Example 26
The actual prices and valuations of 15 two-bedroom residential
bungalows in Nyarutarama is presented in the table below:
Property Actual Price (RWF’million) Valuation (RWF’million)
1 100 80
2 60 70
3 20 18
4 40 35
5 80 92
6 200 195
7 50 47.5
8 120 110
9 90 75
10 100 94
11 70 55

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(a) Calculate the MPE
(b) Based on the result in (a) above, are
valuations in the residential property market
in Nyarutarama accurate?

Dr. N. B. Udoekanem Applied Valuation

08/16/2020 101
for BSc EMV, University of Rwanda
Solution (a)
Property Actual Price Valuation Absolute Error Percentage
(RWF’million) (RWF’million) (RWF’million) Error (%)
1 100 80 20 20
2 60 70 10 16.7
3 20 18 2 10
4 40 35 5 12.5
5 80 92 12 15
6 200 195 5 2.5
7 50 47.5 2.5 5
8 120 110 10 8.3
9 90 75 25 27.8
10 100 94 6 6
11 70 55 15 21.4
12 150 130 20 13.3
13 65 60 5 7.6

Dr. N. B. Udoekanem Applied Valuation

08/16/2020 102
for BSc EMV, University of Rwanda
Property Actual Price Valuation Absolute Percentage
(RWF’million) (RWF’million) Error Error (%)
(RWF’million)
14 105 95 10 9.52
15 85 78 7 8.24

Distribution of the Percentage Error

Class Interval Frequency Cumulative Frequency
1 -5 2 2
6 - 10 6 8
11 - 15 3 11
16 - 20 2 13
21 - 25 1 14
26 - 30 1 15

Dr. N. B. Udoekanem Applied Valuation

08/16/2020 103
for BSc EMV, University of Rwanda
MPE
•   position in the distribution = == 7.5th item
Therefore, MPE class = 6 – 10
L = 6 - 0.5 = 5.5, fl = 2, fm = 6, C = 10.5 - 5.5 = 5

4.58

Dr. N. B. Udoekanem Applied Valuation

08/16/2020 104
for BSc EMV, University of Rwanda
•  
(b) Since 10.08% is less than 15%, valuations in
the residential property market in Nyarutarama at
the aggregate level are accurate.

Dr. N. B. Udoekanem Applied Valuation

08/16/2020 105
for BSc EMV, University of Rwanda